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Securities, bonds, preferred stock

1. True / False

_______ Correlation is a measure of relationship between two securities.

_______ Standard Deviation is calculated by taking the future values of present values.

_______ A beta of 1.8 is less risky than the market.

_______ Australia uses the Euro as their currency.

_______ It's always bad for an economy when the currency drops in value.

_______ "Firm specific" or "individual company" risk can also be called "unsystematic risk."

_______ The lower the standard deviation, the lower the risk.

_______ The least risky option trade is to buy an uncovered call.

_______ The beta of a stock is basically the slope of a line when comparing the stock with the market.

_______ Systematic risk can be diversified away.

2. What is the yield-to-maturity of the following bond (payments are made semiannually)

Par Value (value at maturity): 10000
Annual Coupon: 7.8%
Maturity: 10 years
Bond Market Value: $8750

3. What should be the current market value (present value) of a preferred stock that pays an annual dividend of $10 and has a required rate of return of 10.3%?

4. What should be the market value (present value) of the following bond with semiannual payments that has a yield-to-maturity (i.e. required rate of return or discount rate) of 8.6%?
Par Value (value at maturity): 50000
Annual Coupon: 5.3%
Maturity: 15 years

5. Refer to the XYZ Stocks price data below:
Market Value
January 1, 2004 $10.00
January 1, 2005 $6.00
January 1, 2006 $9.00
January 1, 2007 $13.50

What are XYZ's three holding period returns?

HPR1 =

HPR2 =

HPR3 =

What is XYZ's average return?

What is XYZ's Geometric Mean Return?

6. Your daughter has a lawn mower business. She is considering either fixing her current lawn mower or buying a new "Super Duper Gas Saver" mower. It will cost $600 to fix her current lawn mower and $1000 to buy the new lawn mower. In 4 years when she goes to college, she won't be able to sell her current lawn mower. It will not have any market value. However, she should be able to sell the "Super Duper Gas Saver" mower for $400. The savings for each alternative is as follows:

Repair Lawn Replace Lawn
Mower Alternative Mower Alternative
Year 1 gas savings: $300 $400
Year 2 gas savings: $300 $400
Year 3 gas savings: $200 $400
Year 4 gas savings: $200 $300
Your daughter has a 10% required rate of return.
(You can consider savings the same as a cash flow. Also, don't forget to take into consideration the $400 sale of the new lawn mower at the end of 4 years)

What is the payback for the "Repair Alternative"?

What is the payback for the "Replace Alternative"?

What is the Net Present Value for the "Repair Alternative"?

What is the Net Present Value for the "Replace Alternative"?

What is the Internal Rate of Return for the "Repair Alternative"?

What is the Internal Rate of Return for the "Replace Alternative"?

Which alternative should your daughter choose and why?

Solution Preview

True / False

___True____ Correlation is a measure of relationship between two securities.

___False____ Standard Deviation is calculated by taking the future values of present values.

__False_____ A beta of 1.8 is less risky than the market.

___False____ Australia uses the Euro as their currency.

___False____ It's always bad for an economy when the currency drops in value.

___True____ "Firm specific" or "individual company" risk can also be called "unsystematic risk."

__True_____ The lower the standard deviation, the lower the risk.

___False____ The least risky option trade is to buy an uncovered call.

___True____ The beta of a stock is basically the slope of a line when comparing the stock with the market.

___False____ Systematic risk can be diversified away.

Under the Payback Method, we compute the amount of time required for an investment to generate cash inflows sufficient to recover its initial cost. Based on this method, an investment is acceptable if its calculated ...

$2.19